A Bearish Call on GE Stock by JPMorgan Was One of the Greatest

JPMorgan
analyst Stephen Tusa’s bearish recommendation on
General Electric
stock was one of the great calls—either negative or positive—of all time on Wall Street.

Tusa, who upgraded the stock Thursday to Neutral from Underweight, had been bearish on GE stock (ticker: GE) since May 2016, when GE traded at $30. The rally in GE stock Thursday morning is a testament to his influence. GE stock was up 12%, or 80 cents, to $7.51 on Thursday morning after hitting a new 52-week low of $6.66 earlier this week. That low about equaled the bottom in GE shares at the depths of the financial crisis. Since Tusa’s bearish call in 2016, GE is down about 75% while the S&P 500 index has gained 30%.

Tusa took on an iconic American company and bucked the consensus with his bearish view, backing up his call with deep dives into the company’s complex balance sheet and astute analysis of GE’s troubled power division, which Tusa long argued was in worse shape than the company maintained.

He also presciently argued, before most of his peers, that GE would have to cut its formerly sacrosanct dividend. GE slashed the payout to a penny per share per quarter in October from 12 cents.

Tusa didn’t immediately respond to a request for comment on Thursday.

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In his note Thursday morning, he wrote that “risk reward” is more “balanced” now. Still, Tusa is hardly bullish, writing that “we are increasingly assuming a material equity raise could be necessary,” The amount of stock issuance could total $25 billion, he said, although GE’s CEO Larry Culp has said the company doesn’t need to raise equity.

Tusa maintained his price target of $6 a share, arguing his analysis suggests “upside risk of $8 and downside risk of $6.”

In an interview with Barron’s in November 2017, Tusa said the dividend, then 24 cents quarterly, would likely be reduced because of the company’s weak cash flow—a recurring focus of his analysis.

There were plenty of times in the past year when Tusa could have upgraded GE, and when rivals got excited about GE’s prospects. But Tusa stuck to his bearish call, mostly because he took a downbeat view of the company’s ability to generate substantial free cash flow. And he recognized that the company’s high debt would prompt it to prioritize repaying its borrowings, which he said would come at the expense of equity holders.

In October, GE shares spiked to more than $13 on optimism generated by the naming of the well-regarded Culp as CEO, replacing GE veteran John Flannery. Bullish investors bet that Culp would work the magic that he had as the longtime chief of
Danaher (DHR).

But Tusa argued that the situation at GE was different and that Culp was inheriting problems that would be tough to address. At Danaher, Tusa wrote, Culp was dealing with a company with a “clean balance sheet, no dividend and generally short cycle businesses.” He added: “While the change in leadership brings the company a step closer to where it ultimately needs to go for a real reset, the reset itself, and how potentially bad it actually is, is still in front of them...”

And when GE in June announced plans to spin off its big health-care division in 2019 and outlined a program to reduce net debt at its core industrial business, Tusa wrote that “none of this changes our SoTP [sum of the parts] valuation. This is ultimately a de facto equity raise and dividend cut when all is said and done.”

In his note Thursday, Tusa wrote that the “underlying problem” at GE is still weak free cash flow, which he puts at 30 cents a share in 2019, reflecting an estimate of 35 cents in earnings per share and “little bounce back in 2020/2021.”

The Street, he noted, is still calling for 80 to 85 cents in earnings per share for 2019, noting that “we think a ‘reset’ on numbers is a negative event yet to come, and necessary for a bottom, but with the stock trading at 8x that number, this seems partially discounted.”

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